What’s Stopping Robust Recovery?

Many advanced economies must still address the end of the pre-crisis growth pattern generated by excessive domestic demand. In such economies, that pattern not only typically depended on leverage; it also enlarged the non-tradable side of the economy and shrank the tradable side.

MILAN – The growth map of the global economy is relatively clear. The US is in a partial recovery, with growth at 1.5-2% and lagging employment. Europe as a whole is barely above zero growth, with large variations among countries, though with some evidence of painful re-convergence, at least in terms of nominal unit labor costs. China’s growth, meanwhile, is leveling off at 7%, with other developing countries preparing for higher interest rates.

Many advanced economies must still address the end of the pre-crisis growth pattern generated by excessive domestic demand. In such economies, that pattern not only typically depended on leverage; it also enlarged the non-tradable side of the economy and shrank the tradable side. And yet, given that the non-tradable sector is constrained by its reliance on domestic demand, recovery – if it comes – will depend on the tradable sector’s growth potential.

To realize that potential, the tradable sector has to re-expand at the margin: as a weakening currency causes imports to fall and real unit labor costs decline as nominal wages flatten out, unemployed labor and capital flow toward external markets for goods, services, and resources.

Michael Spence, a Nobel laureate in economics, is Professor of Economics at NYU’s Stern School of Business, Distinguished Visiting Fellow at the Council on Foreign Relations, Senior Fellow at the Hoover Institution at Stanford University, Advisory Board Co-Chair of the Asia Global Institute in Hong Kong, and Chair of the World Economic Forum Global Agenda Council on New Growth Models. He was the chairman of the independent Commission on Growth and Development, an international body that from 2006-2010 analyzed opportunities for global economic growth, and is the author of The Next Convergence – The Future of Economic Growth in a Multispeed World.

It is bad logic to say "an outsize trading sector hurts employment growth because the non-tradable sector tends to create more job." This is just a indirect way of saying the productivity of the non-tradable sector is lower that that of the tradable sector. Thus our advice to Germany and China amounts to suggesting they run their economies more inefficiently, more like the US.

IMHO, excess leverage is a symptom of excess savings, which is a sign of demand shock. IMHO excess leverage isn't dragging the economy, lack of demand is. The trick IMHO is how to convert savings into demand, and once demand grows investments will also grow. To accomplish this, policies must be taken in order to punish unproductive capital and force it to enter the economy by direct public consumption or taxing idle capital or monetary expansion.

The main problem we are facing is risk aversion and the change in the price of risk. Now we have been trying to reduce this price but it is not working because interest rates cannot be negative, it’s now time to either tax savings harder or expand monetary base to fuel consumption.

There is no such thing as "excess savings". Savings is investment and there is never enough productive capital around. We have an infinite demand for productive capital and thus for savings.
There is never a lack of demand as Keynesians would have it. Demand is infinite. The constraint is always the supply.
The reason why the recovery is sluggish is because "debt expansion", which was the main growth driver of the past couple of decades is missing or partially missing.

Spence claims: “Many advanced economies must still address the end of the pre-crisis growth pattern generated by excessive domestic demand.” Er, no. Prior to the crises there was no “excessive demand”: if there had been, there’d have been excessive inflation. And there wasn’t. However, there certainly was “excessive demand” in a particular sector: housing. Spence’s article contains further blunders, but I just don’t have time.

There was no inflation if by inflation you mean a sustained increase in the consumer price index. However, there was massive asset price inflation in the period till 2007 - and there is again massive asset price inflation.

This is an excellent article which summarizes the issues brilliantly. My only question is that the tradable versus non-tradable sector analyses for the developed world should not be stereotyped into a framework where we conjecture as if the non-tradable sector is the preferred one for employment generation. In fact it is not, it is the problem rather than a solution. That Germany has a healthy tradable sector and continues to benefit from it should not be construed as a weakness. The reference to China in this regard, although somewhat similar, is actually not quite so. The steep wage increase that China has embarked on, and which is dissimilar to Germany, is preponing the advance of Lewis Point, something which would change the dynamics of trade-savings-demand in China.

In a very simplified way we could look at what is happening to humanity the following way: Initially we place a certain number of independent cells into a petri dish. The cells start multiplying, spreading, growing, occasionally they get into contact but then either they have some positive or negative interactions with each other or simply move aside, giving each others space. But after a while there is not much more space until the cells reach a state when they have saturated, filled up the whole petri dish and there is nowhere else to grow, expand to, they are side by side, moreover they overlap.. What can the cells do to survive? If they continue the previous, present type of quantitative growth, expansion they have to start "eating" each other' killing the other cells to create more space, or they can start communicating with each other, building more and more complex interconnections, learn how to cooperate in a mutually complementing manner and thus create instead of the previously isolated, independent single cell organisms a qualitatively much higher level, much more intelligent and capable multi-cell organism that has a incomparably higher chance of survival. What is stopping robust recovery? The fact that we choose to remain isolated, independent, competing single cells, or a collection of a few cell instead of choosing to become this mutually interconnected and cooperating super-organism with infinite potential.

In what way would reduced taxes "curtail the export drive"? You mean it would curtail Germany's surplus by adding to consumption and growth. If you assume that imports would rise, which is likely, this would not reduce exports in any way.

What is nonsense is what you mumble here. There is no reason for having a surplus other than not spending it. There is no reason Germany did not spend its surplus (e.g. to tax cuts) other than hoarding! If you could see any other reason you would say it, instead of trying to lecture me.

This is really, I mean really wrong what you wrote there. Germany is not "hording" and Germany is not pursuing some kind of mercantilistic policies. Quite the oppisite is true. Those who accuse Germany of prospering at the expense of others are in a mercantilistic and protectionist mind-set. The reason why Germany has a current account surplus is twofold: high productivity and an undervalued exchange rate. The EUR has forced Germany on a trade-orientation that meant that the export share of GDP has doubled in the past 15 years. Germany is not competing with the other eurozone countries but with producers in Asia and Latam, meaning that German producers must keep a very close watch on labor costs. Any talk of boosting wages, lowering taxes and so on to stimulate domestic demand and curtail the export drive is complete nonsense.

Why is it that countries should turn to the tradable sector? Growth of the tradable sector depends on global aggregate demand, which is low because of developed country indebtedness. Stiglitz argues, to the contrary, that we face the need for transition to economies based on services.

The author argues that "The hard part of fully realizing potential growth is shifting the composition of domestic demand from consumption to investment without adding leverage. That means paying for it on the public-sector side, via taxes and a reduction in household consumption (and in wealth accumulation)." But when it comes to Germany, he forgets the reverse of his argument and says "It is little wonder that Germany finds it difficult to achieve a sustainable pattern of balanced growth in the eurozone as it is currently configured." What stops Germany (or other northern surplus countries) from exploiting its surplus by reducing taxes, so that disposable income is increased? This would lead to more growth and a better situation for the whole of eurozone and, in fact, the world!

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